Arguably the biggest drawback to a medical flexible spending account, or FSA, has been removed.
The U.S. Treasury on Oct. 31 announced a modification to the use-or-lose rule for these tax-saving workplace accounts. Previously, if you had money left in your FSA, it went back to your employer.
The possibility of wasted FSA money frustrated account owners who didn’t do such a good job of estimating what their annual medical costs might be. The possibility of lost money also prompted many workers to ignore the tax-saving accounts altogether.
Now, however, companies can allow FSA-owning employees to carry over up to $500 in excess account money from one benefit year to the next.
Uncle Sam previously had tweaked the FSA rules with regard to use-or-lose. Starting in 2005, companies were allowed to offer workers a two-and-half-month grace period after the end of the benefit year, which for most is the end of the calendar year, in which to spend leftover FSA money.
Still, the grace period was optional. And if you just weren’t able to spend all your FSA money by March 15, you lost what was left.
That’s no longer likely to be a problem. Although the $500 FSA carry over is, like the grace period, optional, many firms are expected to adjust their plans to include the change.
“The objection to the use-or-lose rule has been powerful,” says Steve Jackson, senior vice president of strategic development for PrimePay, a national third-party administrator for FSA accounts headquartered in West Chester, Pa.
U.S. Treasury Secretary Jacob Lew acknowledged that in his announcement of the carry over option, noting that the change was made in direct response to public comments that Treasury and the Internal Revenue Service sought on how to make FSAs more user-friendly.
An overwhelming majority of feedback from individuals, employers and others requested that the use-or-lose rule for health FSAs be modified, according to Treasury. With the carry-over option, the estimated 14 million families who participate in health FSAs will no longer be forced to accurately prognosticate their future medical costs.
The change also should help ease the pressure individuals feel to spend money on medical treatments as their benefits year winds down.
Open enrollment timing
While the FSA change comes in the midst of many companies’ annual benefits open enrollment season, don’t expect your employer to make the carry-over option immediately available.
Such a quick turnaround is allowed per Treasury’s announcement. Realistically, however, changing a benefit plan quickly is difficult.
If a company offers the FSA grace period, it would have to end that and replace it with the carry-over option. It cannot offer both.
Plus, Treasury requires that businesses provide their workers with enough advance word about FSA options.
A smaller company might be able to pull all this off, says Jackson, but it might be difficult for a large employer that’s begun its open enrollment to get word of changes out effectively.
Carry-over preference expected
Still, Jackson expects the carry-over option to be embraced by employers and workers alike.
“I would see a vast majority of companies that offer the grace period flipping this over to the carry-over option,” says Jackson.
And the change should attract more FSA participants.
The average forfeiture rate on FSAs, says Jackson, is 6 percent. For a worker contributing the maximum $2,500 in a medical FSA, that could be a possible annual loss of $150.
“With $500 now available, this forfeiture rate has been removed entirely,” says Jackson. “You’re going to have $500 to carry over, so put in at least that much. What’s the worst case? It really lessens the burden in estimating what benefit year costs might be.”
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Veteran contributing editor Kay Bell is the author of the book “The Truth About Paying Fewer Taxes” and co-author of the e-book “Future Millionaires’ Guidebook.”